Tuesday, June 19, 2012

Credit growth in the US should keep the Fed from implementing QE3

With all the negative economic and market news out there it's worth pointing out a positive development that's been taking place recently. It is the expansion of bank credit in the US, which surprisingly has held up reasonably well. Certainly the rate of expansion is nothing like it was during the 04-07 period, but nevertheless it is trending up.

Source: Board of Governors of the Federal Reserve System ($MM)

This growth in credit is driven by improved lending (as opposed to securities purchases). The lending trend is something the Fed pays a rather close attention to. When lending continued to decline in the second half of 2010, the Fed initiated QE2. Lending in the US had bottomed in early 2011 and has been on the rise since then.

Source: Board of Governors of the Federal Reserve System

The decline in 2010 was led by slowing consumer lending (which had made Bernanke & Co. very uneasy). Consumer credit had since stabilized (arresting the decline in the overall lending - above) but for now is not showing any sustainable growth trend..

Source: Board of Governors of the Federal Reserve System

In fact growth in lending has been driven by corporate loans, which began to increase sine the late 2010 and have been on a steady upward trajectory since.

Source: Board of Governors of the Federal Reserve System

These trends in credit conditions should give the FOMC a pause if the Committee chooses to consider QE3. In spite of the mess in Europe, the overall liquidity conditions in the US look considerably better than they did in 2010 when the Fed felt that balance sheet expansion was warranted. That does not preclude the Fed however from extending Operation Twist or implementing sterilized purchases.